Up-to-the-minute advice, information, resources, and, on occasion, commentary on federal and New Jersey state income taxes, and the various New Jersey property tax rebate programs, and insights and observations on tax policy and professional tax practice, by 40-year veteran tax professional Robert D Flach.

Wednesday, May 28, 2014

TAX SEASON ISSUES 1 – COLLEGE STUDENT DEPENDENTS

I
previously posted a series on how my clients were screwed by the US Tax Code during the tax filing season. I now begin a series of posts on items, most good for my clients, that came up this year during the tax filing
season and on GDEs.

Let’s
start with a state tax issue.

The
IRS, per IRS Field Service Advice FSA 200236001, permits parents with a
dependent child in college, but whose AGI is too high to be able to claim the
American Opportunity Credit (AOC) on their Form 1040, to elect not to claim the student as a
dependent, and thus allow the dependent student to claim a non-refundable AOC
on his/her tax return to wipe out any federal income tax liability.

Here
is how it works –

James
Q Taxpayer, the son of John Q and Jane Q, was an unmarried full-time college student
who had net taxable income for the year. John and Jane were entitled to claim
James as a dependent.

During
the year, James incurred expenses that qualified for the AOC. However, John and
Jane's Adjusted Gross Income (AGI) was in excess of the maximum AGI threshold,
and could not claim the credit.

James'
tax liability, before any credits, was more than the amount of combined federal
and state tax savings John and Jane would have realized by claiming James as a
dependent.

John
and Jane, although entitled to, did not claim James as a dependent on their
1040. James filed a tax return, but did not claim an exemption for himself.
James did, however, claim the AOC on his return, which brought his tax
liability to “0”.None of the credit
claimed on James’ return was refundable.

The
original IRS proclamation involved the HOPE education credit – but, as the AOC
has replaced the HOPE credit, it applies to the AOC as well.And I also expect it applies to the Lifetime
Learning Credit.

What
about the corresponding state returns?Since John and Jane did not claim James as a dependent on their Form
1040 can they claim him as one on their state returns?

In
my practice I deal mostly with NJ state returns, and occasionally with NY state
returns.This year I had a client in
this situation who worked in NY but lived in NJ, so the answer was needed for
both NJ and NY returns.FYI, my clients
were victims of the dreaded Alternative Minimum Tax (AMT), so they would
receive no tax benefit from claiming their college student son as a dependent.

The
instructions for the NY state non-resident and part-year resident return, Form
IT-203 (and I expect also for the IT-201 resident return), tells us (highlight
is mine) -

“Also enter the required information for any
dependent for whom you were entitled to claim an exemption on your federal
return but chose not to (see Example below). If you did not have to file a
federal return, enter the required information for each dependent for whom an
exemption would be allowed for federal income tax purposes.

Example: You were entitled to claim your daughter as
a dependent on your federal return but chose not to in order to allow her to
claim a federal education credit on her federal tax return; you may still claim
her as a dependent on your New York State return.”

So
my clients could claim their son as a dependent on their 2013 Form IT-203.The clients were also able to claim $10,000 in
tuition and fees (the maximum) as an additional state itemized deduction on the
IT-203, as their son was an undergraduate (the deduction is not available for
graduate school tuition).

What
about New Jersey?

Here
is what the instructions for the NJ-1040 say (again, highlight is mine) –

“You
may claim an exemption for each dependent child who qualifies as your dependent for Federal income tax purposes”.

While the NJ instructions do not
specifically address the situation, as the NY instructions do, one can imply
that my clients’ son can be claimed as a dependent on their NJ-1040 because he “qualifies as {their} dependent for Federal
income tax purposes”.The
instructions do not say he has to actually be claimed as a dependent - just that
he qualifies - which he does.

Good news for my clients!

I do not know has other states treat
this issue – but I would think most do the same as NY and NJ.

I would appreciate hearing from tax pros
in other states on how their state treats this issue.

1 comment:

This is very interesting, that the states of NY & NJ would allow the claiming of an exemption not claimed on the 1040. In my home state of IN, we have a very simple state adjusted gross income tax. It starts with the Federal AGI, and allows only the exemptions that were claimed on the 1040.

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